Every once in a while, I read a book that I think everyone should read. I know that not everyone may love it as much as I do, but I recommend that everyone read the book The Psychology of Money: Timeless Lessons on Wealth, Greed, and Happiness by Morgan Housel. I love this book’s unique examples and illustrations to help us learn about important aspects of our financial life and investments.
This book is not academic. It is not boring. There are 20 chapters that can stand independently, and most were written as separate articles by Housel. There are SO many great quotes and memorable illustrations. There is much to learn from this book, and he makes it interesting and fun.
I may love The Psychology of Money because it beautifully articulates and supports many of my beliefs and what I have learned about money.
I love the book’s universality. Whether you have studied finance for fifty years or never have, you will learn something of value and will remember it!
That is what is so unique about this book. I genuinely think everyone should read The Psychology of Money by Morgan Housel.
Here I write about “Room for Error” (Chapter 13 of the book). I often call this concept “cushion.”
The chapter “Room for Error” discusses blackjack players who count cards. The idea is that by counting cards, you have a better idea about the probability of what type of card may be drawn by the dealer. You will not know. There is no certainty, but by counting cards, you can slightly shift the probability of success in your favor. You will still lose hands, but over the long run, with counting cards, you hope to increase your odds enough that you will end up ahead even by a little bit which over time will pay off. One of the key takeaways is that you must have enough and maintain enough to keep playing. You need enough to get through the streaks of bad luck. You need “room for error.”
The same is very much true with your finances too. You want to have enough of a safety net so that when your investments and the stock market go down, you do not need to touch them. You have what you need in cash, a “safe” investment, or even a source of income that can provide enough for you so that you don’t need to sell at the wrong time (during a bad streak). You want to be able to stay in the game and stay invested.
This must be true both emotionally and practically. If you cannot sleep at night because you are worried about how much your investments have gone down, then you need to make a change.
If you are leveraged and taking on too much risk so that you could get wiped out with an options call or unable to pay your debts, you may be forced out of the game. You want to take the long view. You need to be able to withstand the ups and downs in your investments AND the ups and downs in possible income sources. You could lose your job, get disabled, or have an accident that unexpectedly requires a lot of money.
Room for error can provide freedom and flexibility so that you are not “stuck” at a job you hate or cannot take time off to help a sick child, spouse, or parent. Often money is a reason why people cannot do what they want. With savings and cushion comes freedom and choices.
The book talks about how often the unexpected happens. Things do not usually go according to plan, no matter how much we try. There are too many things we can’t know or control, and things are constantly changing.
One of my favorite quotes from this chapter is:
“You have to plan on your plan not going according to plan.”
This is true in both our personal lives and our finances, too.
How much room for error do you have right now?
How much room for error do you want?
The way to create room for error is to set money aside for it.
My most important financial advice for everyone is to live within your means and always save something. Create a financial cushion to have an emergency fund and then keep saving. As the savings grow, you will have money and investments set aside to provide for yourself and your family and the unexpected events.
Savings will provide freedom and flexibility in your life. You want to stay in the game, and having savings and investments provide options. Having the confidence to know you can financially handle things is truly invaluable.
Go here to learn more about this book and Morgan Housel: https://www.morganhousel.com/